miércoles, 14 de enero de 2015

Venezuela, Where do we go?

BAD NEWS: THE NIGHTMARE IS HERE:

The following is an analysis that was made ex-post facto to the crisis
in Chili (Allende) and Perou (Allan Garcia), perfectly extrapolable to
the current situation in our country. To read, understand and assimilate
that this is not over, and that it would take long time to return to
the level from where we started in 1998. Things are going to be worst,
and worst, and recovery will be slow and painful. The nigthmare is here.
We are in Phase III of the Dornbusch & Eduards analysis.

But how does everything go so badly wrong?

Dornbusch & Edwards explain that the problem is a combination of factors:

The combination of external influences (debt crises,economic
blockades etc.), domestic policies (socialization of firms, bank
nationalization, etc.) and macroeconomic policies bring about an
unsustainable economy where inflation is out of control, and the foreign
exchange constraints force realism on policy makers.

And they go on to list the four stages of the unfolding disaster.

Phase I: In the first phase, the policy makers are fully vindicated
in their diagnosis and prescription: growth of output, real wages and
employment are high, and the macroeconomic policies are nothing short of
successful. Controls assure that inflation is not a problem, and
shortages are alleviated by imports. The run-down of inventories and the
availability of imports (financed by reserve decumulation or suspension
of external payments) accommodates the demand expansion with little
impact on inflation.

Phase II: The economy runs into
bottlenecks, partly as a result of a strong expansion in demand for
domestic goods, and partly because of a growing lack of foreign
exchange. Whereas inventory decumulation was an essential feature of the
first phase, the low levels of inventories and inventory building are
now a source of problems. Price realignments and devaluation, exchange
control, or protection become necessary. Inflation increases
significantly, but wages keep up. The budget deficit worsens
tremendously as a result of pervasive subsidies on wage goods and
foreign exchange.

Phase III: Pervasive shortages, extreme
acceleration of inflation, and an obvious foreign exchange gap lead to
capital flight and demonetization of the economy. The budget deficit
deteriorates violently because of a steep decline in tax collection and
increasing subsidy costs.The government attempts to stabilize by cutting
subsidies and by a real depreciation. Real wages fall massively, and
politics become unstable. It becomes clear that the government has lost.

Phase IV: Orthodox stabilization takes over under a new government.
An IMF program will be enacted; and, when everything is said and done,
the real wage will have declined massively, to a level significantly
lower than when the whole episode began! Moreover, that decline will be
very persistent, because the politics and economics of the experience
will have depressed investment and promoted capital flight. The
extremity of real wage declines is due to a simple fact: capital is
mobile across borders, but labor is not.

To make their point, Dornbusch & Edwards provide the
following charts of real wages for, respectively, Chile under Allende
and Peru under Garcia.

Remember that at the time they wrote, Peru's collapse was in progress.
The pattern is clear. When the economy collapses under the triple burden
of supply-side dysfunction, unsustainable fiscal finances and capital
flight, the real wage falls to below its previous level. The inevitable
IMF program restores stability, but at the price of stagnation,
inequality and poverty for much of the population. And as Dornbusch
& Edwards explain, therein lie the seeds of the next crisis:

Initial conditions: The country has experienced slow growth,
stagnation or outright depression as a result of previous stabilization
attempts. The experience, typically under an IMF program, has reduced
growth and living standards. Serious economic inequality provides
economic and political appeal for a radically different economic
program.The receding stabilization will have improved the budget and the
external balance sufficiently to provide the room for, though perhaps
not the wisdom of, a highly expansionary program.

Policymakers explicitly reject conservative economic policies and
implement highly expansionary policies designed to reduce inequality and
eliminate poverty quickly, usually by means of large real wage rises. I
was struck by the beliefs that justify such dramatic reversal in
policy, in particular the rejection of conventional economics: Chavez,
Allende and their kind simply don't think that the rules of economics
apply to them. And when it all goes horribly wrong, they blame external
factors while exonerating the domestic policies that have enabled
external factors to exert such a destabilising influence on the country.
It is hardly surprising if investors do not wish to invest in countries
where their investments are at risk of expropriation, or where their
profits could be wiped out by large government-mandated wage rises or
sudden tax increases, or where rising inflation erodes not only their
returns but their capital. The loss of capital investment arising from
these policies is probably the most damaging aspect, since it erodes
supply-side capacity and directly causes precipitous real wage falls
when the collapse eventually comes.

Having said that, it is not reasonable to blame expansionary "populist"
policies for economic collapses without taking account of the role of
the preceding harshness in setting them up. IMF programmes may stabilise
the economy, but too often at the cost of real suffering among the
population: the desire to improve their lot is entirely understandable.
Austerity breeds profligacy, which in its turn is forced to give way to
even more austerity. Rinse, repeat. This has been the story of Latin
America for a very long time.